Banks Still Look Like a Good Investment

Banks and other financial stocks took off to the upside after the November election, but their performance so far this year has been disappointing. The KBW Bank Index is up less than 1% year to date, compared to a 7% gain for the Standard & Poor’s 500 index—while bank exchange-traded funds are actually down a fraction of a percent.

In March, I wrote here that the banks should present a better buying opportunity once the postelection excitement was fully absorbed. While the patterns on the charts have changed a bit since then, the conclusion remains the same: Banks should be a good buy soon with fairly low technical risk.

On March 21, the market got a wakeup call led by a 4.8% one-day decline in the KBW index and a 5.4% drop in the
SPDR S&P Regional Banking ETF
(ticker: KRE). Since then, the sector has been treading water (see Chart 1).

Chart 1

KBW Bank Index

Support from the January 2017 low on the KBW index and the 2006 previous-all-time high for the regional banking ETF now defines the bottom of 2017 trading ranges. That’s only about 5% below Monday’s trading and a good low-risk area to consider buying.

I don’t say low-risk because I think there is little chance for banks to fall any farther. Rather, this area of technical support comes with a very tight stop-loss parameter. Should the price fall below support, we will know right away that the analysis was incorrect, and losses will be limited.

For the KBW index, the opportunity area is a bit ragged, with support at $89.17 and the neckline, or support line, from a six-month head-and-shoulders pattern near $88.00. (The index traded at $92.20 Monday afternoon.)

For the regional banking ETF, the opportunity area is defined by support at $51.09 (see Chart 2). Also, the 200-day moving average is now coming into view just below that. (The ETF traded at $54.07 Monday afternoon.)

Chart 2

SPDR S&P Regional Banking ETF

The question is why a traditionally bearish pattern is cited as a potential bullish buying area. Fortunately, there is no conflict here. If support breaks, the pattern will suggest a more serious decline ahead. That will stop any new buying, as it should.

However, if the market bounces off support, we can surmise that the pattern failed. Failed bearish patterns often become bullish signals. We can see similar patterns in
JPMorgan Chase
(JPM),
Bank of America
(BAC), and
U.S. Bancorp
(USB).

However, there are some big banks with patterns that already look bullish.
Citigroup
(C), for example, sports a trading range with rising bottoms. This is called a pennant or ascending triangle, and it usually resolves in the direction of the trend that preceded it. In this case, that would be to the upside.

The buy signal here would be a move through the top of the pattern and a new high for the year.
State Street
(STT) is similar, as a new high would also be a buy trigger.

Of the bigger banks,
Wells Fargo
(WFC) seems to be the exception. The company is still dogged by the fake-account scandal that broke in 2016, but the charts show a much weaker pattern than the rest of the sector (see Chart 3).

Chart 3

Wells Fargo

The stock rallied sharply after the election, but the subsequent rally barely brought it back to its former all-time high levels set in 2015. The KBW index, for example, blew through its own prior peak.

Wells also seems to have broken its own head-and-shoulders pattern to the downside in April. This month, it rallied back to touch its former support level from below and fell away again. This is a classic test of a breakdown, and it does not bode well. Amid recent news that the accounts scandal is actually wider than first believed, this is also not a surprise.

Banks as a group seem to be close to attractive buying areas, but not quite there yet. We can rationalize that the current weakness is due to dysfunction in Washington threatening the reasons why the markets rallied after the election.

Or we can look at the yield curve, which has been narrowing since December. The yield curve in its simplest form is the difference between long-term U.S. Treasury rates and short-term Treasury rates. A wide, or steep, yield curve favors banks that lend money at long-term rates and fund those loans at short-term rates. With the curve narrowing again, the wind has been gone from beneath the banks’ wings.

Patience is the key here. The risk-versus-reward equation cannot be rushed.

Getting Technical Mailbag: Send your questions on technical analysis to us at online.editors@barrons.com. We’ll cover as many as we can, but please remember that we cannot give investment advice.

Michael Kahn, a longtime columnist for Barrons.com, comments on technical analysis at www.twitter.com/mnkahn. A former Chief Technical Analyst for BridgeNews and former director for the Market Technicians Association, Kahn has written three books about technical analysis.

This copy is for your personal, non-commercial use only. Distribution and use of this material are governed by our Subscriber Agreement and by copyright law. For non-personal use or to order multiple copies, please contact Dow Jones Reprints at 1-800-843-0008 or visit www.djreprints.com.